The term CRR comes up quite often when the RBI’s monetary policy is discussed. CRR stands for Cash Reserve Ratio and it signals the amount of cash reserve that the bank has. The ratio is the mandatory percentage of cash that banks have to maintain as reserves against the total deposits.
Why is the CRR important
Therefore effectively, the CRR becomes the capital that a bank has. This is more of a financial security that the Reserve Bank of India maintains by keeping the cash with them. This amount cannot be used for any lending or investment purpose. All commercial banks have to maintain the CRR. In case of an emergency, it enables ready availability of cash for customers. In case they need their deposits back during an emergency, the cash reserve ensures that there is ready cash available.
Can banks lend the CRR money
The cash reserve by any bank is generally stored in a vault or with the RBI. This money is not available for any investment or lending action by the bank. It is more like a security deposit. Banks additionally, don’t earn any interest on this deposit.
How is CRR linked to inflation
Often when we read about the steps being taken to rein in inflation, CRR comes up for discussion. One of the core requirements during a high inflation period is that the Govt needs to ensure that excess money is not available in the system. It can achieve this by increasing the CRR. When RBI increases the CRR, the effective amount of money available with the banks is reduced. This, as a result, curbs excess flow of money in the economy.
The reverse happens when RBI wants to boost liquidity in the market. It lowers the CRR and this enables availability of more funds into the market. The banks can then use the additional cash for lending or investment purposes.
Sometimes lowering the CRR is also a way to spur growth. This is why, in a scenario when the growth needs to be boosted but a rate action may not be possible, the RBI lowers the CRR to push up the growth rate.